Can Government Help High Tech and Spur Economic Growth?

Can Government Help High Tech and Spur Economic Growth?

As governments around the world try to create the next great boon in economic growth — particularly in job-rich emerging technology industries — it’s a good time to ask, “Do these efforts really help and what specifically can governments do to boost entrepreneurial activity in the private sector? Can governments really help create the next Silicon Valley, or are these efforts doomed to be wasteful failures?” Harvard professor Josh Lerner does a good job answering these questions in his new book, Boulevard of Broken Dreams: Why Public Efforts to Boost Entrepreneurship and Venture Capital Have Failed — and What to Do About It.

We asked Professor Lerner about his new book and how it might relate to current government policies that affect SEMI members around the world.

SEMI: Early in your book, you quote one of the early visionaries of the semiconductor industry who said, “I do not want more government in Silicon Valley. They can do two things here: take our money…or pass laws limiting our freedoms.” Your work suggests that under the right conditions and with the right policy mix, government action can accelerate private entrepreneurship and economic growth. Tell us about your conclusions.

Lerner: Entrepreneurship is a business in which there are increasing returns. To put the point another way, it is far easier to found a semiconductor start-up if there are ten other entrepreneurial semiconductor funds nearby. In many respects, founders and venture capitalists benefit from their peers. For instance, if entrepreneurs are already active in the market, investors, employees, intermediaries such as lawyers and data providers, and the wider capital markets are likely to be knowledgeable about the venturing process and what strategies, financing, support, and exit mechanisms it requires. In the activities associated with entrepreneurship and venture capital, the actions of any one group are likely to have positive spillovers — or, in the language of economics, “externalities” — for their peers. It is in these types of settings that the government can often play a very positive role as a catalyst.

This observation is supported by numerous examples of government intervention that has triggered the growth of a venture capital sector. For instance, the Small Business Investment Company (SBIC) program in the United States in the 1950s and 1960s led to the formation of the infrastructure for much of the modern venture capital industry. Many of the early venture capital funds and leading intermediaries in the industry — such as law firms and data providers — began as organizations oriented to the SBIC funds, and then gradually shifted their focus to independent venture capitalists. Similarly, public programs played an important role in triggering the explosive growth of virtually every other major venture market around the globe.

SEMI: Your book makes a strong claim that “Virtually every hub of cutting edge entrepreneurial activity in the world today had its origins in proactive government intervention,” but as you state, there have been many, many failures. What are the common mistakes or policy gaps that you see in various government attempts to spur economic activity?

Lerner: Two well-documented problems exist that can derail government programs to boost entrepreneurial and innovative activity. First, they can simply get it wrong: allocating funds and support in an inept or, even worse, a counterproductive manner. Decisions that seem plausible within the halls of a legislative body or a government bureaucracy can be wildly at odds with what entrepreneurs and their backers really need.

Economists have also focused on a second problem, often termed “capture.” These writings suggest that private and public sector entities will organize to capture direct and indirect subsidies that the public sector hands out. For instance, programs geared toward boosting entrepreneurs may instead end up boosting cronies of the nation’s rulers or legislators. The annals of government venturing programs abound with examples of efforts that have been hijacked in such a manner.

SEMI: Looking around the world today, we see trillions of taxpayer dollars being spent on 19th century industries like banking and agriculture, but very little on 21st industries such as nanotechnology, renewable energy and clean tech. The emphasis seems clearly on protecting or sustaining mature industries, rather than creating new ones. Why should policy makers care about new industries, technology and innovation?

Lerner: As you point out, the financial crisis opened the door to massive public interventions in the world’s economies, in which the government served as venture capitalist. But the public sector has focused on the most troubled and poorly managed firms in the economy, some of which may be beyond salvation. Should public funds be entirely devoted to propping up troubled entities, or at least partially designed to promote innovative enterprises?

I believe that there are important rationales for focusing on innovative firms. Since the 1950s, economists have documented the strong connection between technological progress and economic prosperity, both across nations and over time. Ultimately only two ways of increasing the output of a mature economy, like those of Europe, Japan and the U.S.: (1) increasing the amount of inputs (e.g., by having employees work until the age of sixty-seven, instead of retiring at sixty-two), or (2) developing new ways to get more output from the same inputs. Numerous studies have shown growth of inputs can account only for about 15 percent of the actual economic growth: the vast majority of growth stems from getting more stuff from the same inputs.

In the decades since the 1950s, economists and policymakers have carefully studied the relationship between innovation — whether new scientific discoveries or changes in the way that factories and service businesses work — and increases in economic prosperity. These studies have documented the positive effects of technological progress in areas such as information technology. Thus, an essential question for the economic future of a country is how innovative it is.

SEMI: The semiconductor industry is coming off probably its worst year in history and many companies in the supply chain are still under severe economic stress. Your book is focused on start-ups and venture capital formation, rather than on existing high-tech ventures. Has your research suggested any conclusions about effective public policy actions designed to support existing technology companies or geographic clusters like Silicon Valley, Dresden, Germany or Grenoble, France?

Lerner: I very much agree that much of good government policy should be aimed at making sure that running and working in an innovative company is an attractive option, regardless of whether it is in a start-up or a more established firm. Often, in their eagerness to get to the “fun stuff” of handing out money to companies, public leaders neglect the importance of setting the table, or creating a favorable environment for innovative businesses.

Such efforts to create the right climate for innovation are likely to have several dimensions. Supporting cutting-edge and relevant academic research and ensuring that creative ideas can move easily from universities and government laboratories are critically important. However, many entrepreneurs come not from academia, but rather from corporate positions, and studies have documented that, for these individuals, the attractiveness of entrepreneurial activity is very sensitive to tax policy. Also important is ensuring that the law allows firms to enter into the needed contracts — for instance, with a potential financier or a source of technology — and that these contracts can be enforced.

SEMI: In China, we see a fast-paced emergence of many technology sectors, and extremely active provincial and national government actors seeking to aggressively nurture economic development? What are you seeing in China from a policy perspective that the world can learn from?

Lerner: The Chinese government — at all levels — has been extremely aggressive in promoting the development of innovative new sectors. The scale of the effort, as well as the success that that China has seen to date, has been staggering.

That being said, there are clearly some cautionary notes here. Too often programs — particularly those at the provincial level — have not been well thought through, with considerable duplication across regions and the funding of cronies of political leaders. In the longer run, there is ample reason to hope these distortions will be addressed.

SEMI: What other regions of the world, or specific programs, do you see that are getting it right? Are there programs in the world right now that you would point to as benchmarks for policy makers look at to spur high-tech economic development?

Lerner: Two examples would be Singapore and Israel.

Over the past two decades, the Singaporean government has experimented with a wide variety of efforts to develop a sector of risk-taking innovative firms:

Subsidies for firms in targeted technologies

Subsidies for leading researchers (particularly in biotechnology) to move their laboratories to Singapore

Awards for failed entrepreneurs (with a hope of encouraging risk-taking)

The provision of public funds for venture investors seeking to locate in the city-state

Encouragement of potential entrepreneurs and mentoring for fledgling ventures

In 1990s, the Israeli government established Yozma Venture Capital Ltd., a $100 million fund wholly owned by the public sector. At the time, there was a single venture fund active in the nation, Athena Venture Partners. While there were certainly well-trained engineers in the nation working on promising technologies, entrepreneurs (and would-be company founders) were suspicious of venture investors. This reluctance was based in part on their interactions with the pioneering venture capitalists in the nation, as well as their general skepticism about selling equity to unaffiliated parties. Instead, they preferred to rely on bank debt for financing. But such financing was rarely available for young, risky ventures.

The key goal of Yozma was to bring foreign venture capitalists’ investment expertise and network of contacts to Israel. The need for this assistance was highlighted by the failure of the nation’s earlier domestically-focused efforts to promote high-technology entrepreneurship. Foreign expertise was seen as key to overcoming this problem.

Yozma’s focus was on getting foreign venture investors to commit capital for Israeli entrepreneurs, with the government providing matching funds to investors. In addition to the financial incentives, the project adopted a legal structure for the venture funds that foreign investors would be comfortable with. The Yozma program delivered beyond the wildest dreams of the founders, with the Tel Aviv area emerging as one of the global hubs of innovative activity.